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All The Pieces Of The Mortgage Payment Puzzle
When financing a home you love, it’s important to understand all the pieces that make up your mortgage payment
What’s your mortgage payment? No, not how much is your payment but what are the factors that make up the payment itself? From paying your loan down, to your tax bill, to making sense of why your payment this year is more than it was last year…the nuts and bolts of a mortgage payment are always more complex than simply cutting a check each month. Here’s a quick 101 on what actually goes into your monthly payment.
The first pieces: principal and interest
As you’re likely already aware, a mortgage payment is paying back the loan and two big parts of this are the principal and the interest. You’re in your dream home, your loan originator got you a rate that makes the neighbors jealous, and you’re now building potential equity toward your retirement.
With a 30-year fixed-rate mortgage, the combined number of your monthly principal and interest payment will never change. However, the portions of principal and interest will begin to shift as you pay your loan down, but the total of the two remains the same from Month 1 to Month 360. You’ll notice the further you get into paying down your loan, more and more of that monthly amount will go towards the principal and less will be eaten up by interest.
And that's it, right? For some borrowers, this may be the case but for the majority of homeowners, it's not even close. For many other borrowers, this is a little less than half of the pieces that make up a mortgage payment because they escrow.
Additional pieces: escrow and taxes
When you obtain a mortgage loan, you also can set up an escrow account with your lender – or their loan servicing company – that essentially takes on the responsibility of helping you pay your property taxes and homeowner’s insurance over time each year.
Instead of waiting for the tax man to come knocking once or twice a year, many borrowers simply pay 1/12th of their annual tax bill as a part of the mortgage payment each month. So, assuming the annual tax bill is $1,200, instead of cutting a big check at the end of the year for the full amount, they pay $100 each month into their escrow account. This means your loan servicer has the money ready for the tax collection agency when it’s due.
The protection piece: homeowner’s insurance
Buying a home is likely one of your largest investments (both emotionally and financially). That’s why you it’s important to protect that investment for some peace of mind with homeowner’s insurance. While you can legally own a home without homeowner’s insurance, most lenders require homeowner’s insurance to protect against unforeseen circumstances like natural disasters, fires and other hazards. In a similar fashion to taxes, you can pay monthly into your escrow account in lieu of cutting a check to your guy or gal annually for the premium. Whew. Okay, that has to be it, right? Nope, but we’re almost there…
The final piece: mortgage insurance
Many borrowers have another piece to their monthly mortgage payment called private mortgage insurance (PMI). If they’ve taken advantage of 3%, 5%, 10%, or even 15% down payment loan programs, they are required to have mortgage insurance. Why? When a borrower puts less than 20% down, this insurance is not for the borrower or the home. Instead, it helps protect the bank or lender if the home goes into foreclosure. Through the PMI, the bank is able to put away enough money to take care of the costs of repossessing and selling it again.
And there you have it—the main puzzle pieces of what goes into your monthly mortgage payment which is also commonly referred to as PITI (Principal, Interest, Taxes, and Insurance). Now look at you! Armed with your newfound mortgage knowledge, you can start saving for your new home with a better understanding of what a mortgage payment could mean for your budget. When you are ready to start the house hunt, contact an expert in the Motto Mortgage network who can guide you through the mortgage process and help you find the best loan option.